Financial management decisions

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Financial management decisions traditionally have been divided into three categories: investment decisions, financing decisions and dividend decisions. Investment decisions involve deciding which assets to buy and sell and what the company should do for a living. Past investment decisions are reflected in the level and composition of assets on the firm's balance sheet. Financing decisions are concerned with how to obtain the funds to acquire and finance the firm's assets. Past financing decisions of the firm are reflected in the current and long-term liabilities and owners' equity or net worth balance sheet accounts. The dividend decision involves deciding what percentage of earnings should be distributed to the owners of the company. The earnings that are not distributed as dividends are retained and reinvested in the company. Agency and corporate governance problems are concerned with the conflicts of interest, which arise among the various shareholders of the firm, and with the rules for governing the corporation - rules, which determine who has effective control of the company and therefore can determine what the company does and how the wealth of the company is shared among the various stakeholders. The stakeholders of the firm include the owners, creditors, (people who have lent money to the company), managers, employees, customers, suppliers and public officials. Net income is different from cash flow. Net income is calculated on an accrual basis" according to Generally Accepted Accounting principles. Net income differs from cash flow because of non-cash expenses such as depreciation, and capital flows, which do not appear on the income statement. To maximize owner wealth, managers should focus on cash flows because it is cash that is used to pay dividends and to invest in new projects. However, managers must do more than generate positive cash flows; they must also earn a return on the owners' capital which is at least as good as the owner can earn elsewhere on comparably risky investments. The easiest, and perhaps the most painful, way for managers to determine whether their employers, the shareholders, approve of their decisions and what the market thinks about the firm's future is to monitor the company's stock price, especially on the day major new initiatives are announced. An increase in the stock price means good news, a decrease bad news.